Academic journal article Journal of Accountancy

Lessons Auditors Ignore at Their Own Risk

Academic journal article Journal of Accountancy

Lessons Auditors Ignore at Their Own Risk

Article excerpt

In an article in the July 1988,Journal, (J of A July 88, page 50), the authors identified some lessons auditors should learn from the more persistent and significant allegations against them in litigation reported to the American Institute of CPAs SEC practice section's special investigations committee, since renamed the quality control inquiry committee (QCIC). Three years have passed, and the authors feel it appropriate to revisit the subject. The original "Lessons Auditors Ignore at Their Own Risk" addressed problems with initial public offerings, weak internal controls and aggressive management, sales that fall apart after an audit and changes in a company's business. It also covered confirmations that don't stand up, changes in auditors, expense deferrals, audits of components and dealing with former associates. Although the emphasis may have changed, none of these areas is yet problem-free. Indeed, some areas have taken on added importance in the last three years. And others are attracting increased attention. These areas are the focus of this article.


One message comes through loud and clear. Most problems auditors face from litigation do not result from a failure to apply necessary auditing procedures-or to apply them properly. The problems usually stem from the way auditors react-or don't react-to information at hand when they accept or retain clients, or when auditors evaluate evidence developed during their examinations.

This is not to suggest auditors have closed their minds to important evidence. Indeed, the significance of information may only become apparent later, through the benefit of 20/20 hindsight and the availability of additional facts. Still, more alertness, some added skepticism, the application of hard-nosed business judgment and a tougher mental attitude could spare auditors from some of the litigation they now find themselves facing.

This article will emphasize three lessons auditors should learn from the more troublesome situations the QCIC has seen. Auditors should

* Exercise great care in deciding to accept and, equally important, retain clients. An audit is not an entitlement; companies must earn the right to be audited.

* Think like businesspeople while planning and carrying out audits. Auditors should understand what makes the client's business tick, and perform the work as if they were investigating whether to invest their own money in the company.

* Act professionally, remembering why the public licensed them to serve as auditors. Their role is to be satisfied the financial statements on which they report are a fair presentation of underlying business realities in accordance with generally accepted accounting principles.

The lessons to be learned from litigation don't necessarily stem from specific deficiencies in the performance of auditors. However, auditors may suffer substantial legal costs and adverse publicity even if they are blameless. Awareness of this should make auditors careful to avoid entanglements which are particularly prone to litigation.


Perhaps the most important lesson litigation offers auditors is that they should exercise great care in accepting and retaining clients. Time and again, companies that into trouble drag their auditors with them. This is not meant to suggest auditors should accept as clients only companies that are so successful, well managed and morally impeccable that every audit is a "piece of cake. " That would be impractical. Auditors who try to follow such a strategy, even if they achieve their goal, will probably have few clients. It would also be contrary to the public interest, since new ventures, some of which ultimately may not succeed, deserve a chance to go before the public if they are conceptually sound, honest and attempt to establish effective operating and financial controls.

As was noted earlier, an audit is not an entitlement. …

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